How To Make Social Security Work

In his book "Ron's Road To Wealth," well-known investment manager Ron Muhlenkamp detailed that the average life expectancy for Americans was 63 years of age back when the Social Security Act was passed. The act set the retirement age at 65, which meant that, on average, individuals could expect to collect retirement benefits for a couple of years. He also pointed out that there were 40 workers for each retired individual back around when the act was passed.

The original motivation of the Social Security Act was to provide a safety net for retirees, as many did not have enough capital saved to live modestly when they stopped working. As such, it was more of an insurance policy to help individuals fund retirement, and given the lower life expectancy, the vast majority of people didn't have the opportunity to collect on Social Security benefits.

Social Security and Life Expectancy In the current day, many conditions have changed drastically since Social Security was originally enacted. For starters, individuals can choose to start receiving benefits as early as 62, though payouts are generally lower than waiting a few years. The Center for Disease Control and Prevention lists the current life expectancy at 77.9 years, meaning the average U.S. citizen is likely to collect his or her Social Security benefits for close to 13 years, or more than a decade longer than originally planned. The worker per retiree ratio has also changed significantly, and is expected to continue to decline to 2.1 by 2035 as over 40 million baby boomers enter retirement. 2011 marked the first year in which the first wave of baby boomers turned 65. (For more on retirement, check out The Generation Gap.)

CostsAdditionally, Social Security benefits are seen as more of a right or entitlement, versus the privilege and insurance policy they were originally intended to be. One estimate put the annual cost of providing Social Security benefits at more than $610 billion back in 2008, to make it one of the largest government programs, with Medicare and Medicaid the other large entitlement programs. With the U.S. national debt currently in excess of $15,000 billion, many see current spending levels and the need to fund these large entitlement programs as simply unsustainable over the long haul.

Solutions?Cutbacks in Social Security liabilities would surely help ensure its long-term solvency. The retirement age has already been increased to 67 years of age for individuals born in 1960 and later. In early 2011, a U.S. senator from Texas proposed raising the retirement age to 69 along with cutbacks in cost of living adjustments. This was estimated to be able to save $416 billion over the next decade and $7,200 billion during roughly the next 60 years.

Social Security taxes are also currently capped. Above $108,600 in annual income, individuals no longer have to pay these taxes for the amount over the initial $108,600. Proponents of increasing the tax argue that capping taxes for someone making over $1 million per year doesn't make sense as the individual should have more than ample capacity to pay larger amounts into the system and help ensure its solvency.

Finally, privatizing Social Security benefits has been mentioned in the past, and offered as a way to increase returns for funds that have already been set aside to pay future benefits. The proposal was originally mulled over by former President George W. Bush as early as 2005 and is intended to improve investment returns, as opposed to reducing future benefits. Privatizing investment accounts for individuals was recently revived by U.S. House Speaker Newt Gingrich, with estimates that a change could reduce future benefits by as much as 50% over the next 30 years. (For more on Social Security woes, read Social Security Depletion: Is The Fear Justified?)

The Bottom LineAt its current pace and without any adjustments, Social Security is estimated to be exhausted by 2035. There are clearly ways to reduce benefits, increase the pool of funds that will need to be allocated to pay future benefits and ensure that retirees can live comfortably and keep their standards of living at reasonable levels well into their golden years. Whether there is the political will to enact such changes remains to be seen.